Broadcom's (AVGO -2.71%) stock is up about 30% over the past 12 months, bucking the broader slowdown in the semiconductor market. It outperformed most of its peers because its deep diversification across the data center, networking, wireless, storage, and industrial chip markets insulated it from the post-pandemic slowdown of the PC and smartphone markets. It also diversified its business away from semiconductors with the expansion of its infrastructure software business.
Between fiscal 2017 and fiscal 2022 (which ended last October), Broadcom's revenue had a compound annual growth rate (CAGR) of 13%, while its adjusted EPS rose at a CAGR of 19%. Analysts expect its revenue and adjusted EPS to rise 7% and 10%, respectively, this year, even as the macroeconomic headwinds rattle the broader markets.
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Its stock looks cheap at 16 times forward earnings, and it pays a respectable forward yield of 2.7%. All those facts and figures suggest Broadcom is still worth buying at these levels. But investors should take note of two recent events -- which can be considered as a green flag and a red flag for its future -- before pressing the "sell" button.
The green flag: A new multibillion-dollar deal with Apple
Broadcom produces Wi-Fi, Bluetooth, GPS, wireless charging, and other radio frequency chips for Apple's (AAPL -1.19%) iPhones, iPads, and Macs. Back in 2020, Apple and Broadcom galvanized that long-term relationship with exclusive contracts that would pay the chipmaker approximately $15 billion in revenue through 2023.
However, several reports from earlier this year suggested Apple could replace Broadcom's Wi-Fi and Bluetooth combo chips with its own first-party chips by 2025. Those rumors cast dark clouds over Broadcom's future since the company relied on Apple for 20% of revenue in fiscal 2022.
But some of those clouds recently parted when Apple announced that it had inked a new multibillion-dollar agreement to purchase Broadcom's 5G radio frequency components and other wireless connectivity parts from Broadcom over the next few years.
Apple didn't specify the exact value or length of the deal (or if it includes its Wi-Fi and Bluetooth combo chips), but it allays some bearish concerns that Apple could unexpectedly replace all of Broadcom's chips with its own first-party silicon.
The red flag: The VMware deal is still stuck in the mud
To diversify its business away from Apple and the cyclical semiconductor market, Broadcom expanded its infrastructure software division with its acquisitions of CA in 2018 and Symantec's enterprise security unit in 2019. In 2022, it agreed to buy the cloud software giant VMware (VMW) for $61 billion.
That takeover would enable Broadcom to generate about half of its revenue from infrastructure software, compared to just 29% of its revenue in fiscal 2022. But that deal still faces intense regulatory scrutiny in the U.S., the U.K., and Europe.
In March, the U.K. Competition and Markets Authority launched an investigation into the deal that will last through September. In April, the European Commission (EC) sent Broadcom a "statement of objections" to the deal, saying that it could restrict competition in certain product categories. The EC also recently extended its deadline for making a final call on that deal from June 21 to July 17.
In the United States, the Federal Trade Commission has reportedly been trying to garner enough third-party support to launch a full-blown antitrust lawsuit against Broadcom. In other words, Broadcom's planned takeover of VMware could remain in limbo for a very long time.
Which of these flags should be flown higher?
Broadcom's VMware deal faces a lot of regulatory hurdles, but that isn't all that surprising given the size of the deal. Meanwhile, Apple's big deal with Broadcom is more interesting and newsworthy -- especially since investors had been bracing for a sudden divorce between the two companies. Therefore, I believe that the green flag should fly a lot higher than the red flag.
